When Will Good News Stop Being Bad News?

NEW YORK, NY – JUNE 13: Traders work on the floor of the New York Stock Exchange on June 13, 2013 in New York City.

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For financial market investors today, one question is more important than any other. When will good news stop being bad news and become good news again?

For every fund manager’s asset allocation committee, nothing could be more important. That’s because at the moment strong economic data make it more likely that the Federal Reserve will cut back its measures to stimulate the U.S. economy. Less liquidity sloshing round the system means less cash to invest in assets. And that brings prices down. Good news for the economy means bad news for asset prices, and vice versa.

But undoubtedly that will change one day. Eventually, the economy will reach the point where it’s strong enough to persuade investors to buy assets with or without the Fed’s cash to do the heavy lifting. The big question is when.

And of course, there is no simple answer. But it’s one the analysts and strategists who advise investors, as well as the fund managers themselves, are discussing at length.

CitiFX, in its latest look at the week ahead, summarizes the argument. The key focus for investors may be on the asset markets’ response to the increasing hawkishness of the Federal Reserve. But the bigger story remains the underlying pickup in the U.S., which ultimately may drive bond yields, stocks and the dollar higher, it says.

When? Mike van Dulken, head of research at Accendo Markets, takes a stab at late this year or early next year. Discussing the subject with some of his peers late last week, he found that many expect the markets to start immediately taking good data as a sign that investors can cope with a tapering of the Fed’s largesse. But he himself disagrees: hence his rather more pessimistic timetable.

“Until we see consistent job creation – unemployment improving, but not because people are giving up – and much more solid industrial and manufacturing readings across the board, I see markets still taking bad data as meaning stimulus is here to stay,” he says.

But what of the investors themselves? Andrew Milligan, head of global strategy at Standard Life Investments, opts for exactly the same timeframe as Mr. van Dulken – late this year or early next year – and reveals that his company is already positioned for such a rally in asset prices. “We’re very open about this at the moment. We think this is a buying opportunity for investors; not one where people should run to the hills,” he says.

Of course, many factors other than the U.S. economic data will determine whether the markets can cope with less asset buying from the Federal Reserve: what happens in China and Japan, as well as to corporate earnings, for example. But Standard Life is not the only investor to think we’re close to the point where other buyers will replace the Fed to lift asset prices.

Legal & General Investment Management, in its latest asset allocation summary, notes that it too is overweight equities, neutral bonds and underweight cash in June. Its asset allocation “committee discussed whether the correction is an opportunity to increase the risk asset position,” it says. “Overall it was decided that markets have not fallen sufficiently to add risk, but that Japan has become much more attractive following its 20% decline and so equity exposure should be divided equally between the existing U.S. and U.K. positions and now Japan.

So there you have it. Good news may become good news again sooner rather than later. But it’s also quite possible that it will remain bad news for several more months yet.